BMO Canadian ETF Dashboard

— as of January 31, 2018 —

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Alfred Lee

Utilizing Ultra-Short-Term Bonds in a Portfolio Strategy

Summary of Recommendations

BMO Ultra Short-Term Bond ETF (Ticker: ZST)

With the RRSP deadline fast approaching, investors can utilize BMO Ultra Short-Term Bond ETF (ZST) in three effective ways:

  1. Considering recent market volatility, investors can decrease risk by moving into a low-risk, liquid investment with an attractive yield.
  2. Allocate money to your Registered Retirement Saving Plan (RRSP) before the deadline while looking for longer term opportunities.
  3. Decrease the interest rate sensitivity of a fixed income portfolio, while keeping your investments working for you.


A Closer Look:

  • This ETF is a diversified portfolio of investment-grade Canadian corporate bonds that will mature within the next 12 months. The portfolio holds highly liquid bonds with more attractive yields than cash, while maintaining its investment-grade characteristics.
  • The ETF currently has a duration of only 0.61 and a yield-to-maturity (ytm) of 2.0%. The management fee of ZST is 0.15% and pays a monthly distribution.  
  • ZST should be held in a registered account where it is tax-exempt, as its coupon of 4.6% is higher than its ytm of 2.0%.
  • BMO Ultra Short-Term Bond ETF-Accumulating Units (ZST-L) is also available for investors who do not need an ongoing distribution.


Portfolio Construction Strategies Using ZST:

  • A low-risk investment amidst recent market volatility:
    • The recent equity market correction may have investors worried about a further sell-off ahead. Investors wanting to reduce equity market risk may consider using ZST as a way to decrease risk in a portfolio, while maintaining liquidity and earning an attractive yield.
  • A way to minimize interest rate sensitivity in a portfolio:
    • This low-risk solution is an appealing consideration for investors either looking to minimize duration risk or looking for an investment that is more stable than short-term bonds. The ETF holds investment-grade bonds that have been selected with more attractive yields.
    • Given the proximity of the short end of the yield curve to the overnight rate, it tends to be more sensitive to central bank policy expectations. The two-year Government of Canada yield has spiked 43.4bps since the end of October 2017 (Chart A below), as the market is anticipating the Bank of Canada (BoC) to continue to tighten monetary policy. Interest rate futures are currently implying a 45.7% probability that the overnight rate will be 2.0% or higher by the December BoC meeting later this year. With the overnight rate currently at 1.25%, that would mean the three additional quarter-point hikes to get to 2.0% by year end. While we believe this pace of tightening is overly hawkish, which potentially results in further yield curve flattening, investors do need to take caution in terms of their duration positioning (Chart B below).

  Chart A: Short-Term Bond Yields Have Risen

Feb-2018-Alfred-Chart-A.gif#asset:700

Source: Bloomberg, as of January 30, 2018.

Chart B: Canadian Yield Curve Has Flattened Last Quarter

Feb-2018-Alfred-Chart-B.gif#asset:701

Source: Bloomberg, as of January 30, 2018.

  • If the yield curve continues to flatten, investors can benefit by taking more duration risk. However, this could be risky if investors are wrong and longer-dated bond yields actually move up. Instead investors can get better protection by positioning in bonds that mature within a year. While this portion of the yield curve is more sensitive to the overnight rate, interest rate impacts would be temporary given the bonds will mature at par.

Fund Data Source: BMO Global Asset Management, as of January 30, 2018.

Alfred Lee

Utilizing Ultra-Short-Term Bonds in a Portfolio Strategy

Summary of Recommendations

BMO Ultra Short-Term Bond ETF (Ticker: ZST)

With the RRSP deadline fast approaching, investors can utilize BMO Ultra Short-Term Bond ETF (ZST) in three effective ways:

  1. Considering recent market volatility, investors can decrease risk by moving into a low-risk, liquid investment with an attractive yield.
  2. Allocate money to your Registered Retirement Saving Plan (RRSP) before the deadline while looking for longer term opportunities.
  3. Decrease the interest rate sensitivity of a fixed income portfolio, while keeping your investments working for you.


A Closer Look:

  • This ETF is a diversified portfolio of investment-grade Canadian corporate bonds that will mature within the next 12 months. The portfolio holds highly liquid bonds with more attractive yields than cash, while maintaining its investment-grade characteristics.
  • The ETF currently has a duration of only 0.61 and a yield-to-maturity (ytm) of 2.0%. The management fee of ZST is 0.15% and pays a monthly distribution.  
  • ZST should be held in a registered account where it is tax-exempt, as its coupon of 4.6% is higher than its ytm of 2.0%.
  • BMO Ultra Short-Term Bond ETF-Accumulating Units (ZST-L) is also available for investors who do not need an ongoing distribution.


Portfolio Construction Strategies Using ZST:

  • A low-risk investment amidst recent market volatility:
    • The recent equity market correction may have investors worried about a further sell-off ahead. Investors wanting to reduce equity market risk may consider using ZST as a way to decrease risk in a portfolio, while maintaining liquidity and earning an attractive yield.
  • A way to minimize interest rate sensitivity in a portfolio:
    • This low-risk solution is an appealing consideration for investors either looking to minimize duration risk or looking for an investment that is more stable than short-term bonds. The ETF holds investment-grade bonds that have been selected with more attractive yields.
    • Given the proximity of the short end of the yield curve to the overnight rate, it tends to be more sensitive to central bank policy expectations. The two-year Government of Canada yield has spiked 43.4bps since the end of October 2017 (Chart A below), as the market is anticipating the Bank of Canada (BoC) to continue to tighten monetary policy. Interest rate futures are currently implying a 45.7% probability that the overnight rate will be 2.0% or higher by the December BoC meeting later this year. With the overnight rate currently at 1.25%, that would mean the three additional quarter-point hikes to get to 2.0% by year end. While we believe this pace of tightening is overly hawkish, which potentially results in further yield curve flattening, investors do need to take caution in terms of their duration positioning (Chart B below).

  Chart A: Short-Term Bond Yields Have Risen

Feb-2018-Alfred-Chart-A.gif#asset:700

Source: Bloomberg, as of January 30, 2018.

Chart B: Canadian Yield Curve Has Flattened Last Quarter

Feb-2018-Alfred-Chart-B.gif#asset:701

Source: Bloomberg, as of January 30, 2018.

  • If the yield curve continues to flatten, investors can benefit by taking more duration risk. However, this could be risky if investors are wrong and longer-dated bond yields actually move up. Instead investors can get better protection by positioning in bonds that mature within a year. While this portion of the yield curve is more sensitive to the overnight rate, interest rate impacts would be temporary given the bonds will mature at par.

Fund Data Source: BMO Global Asset Management, as of January 30, 2018.

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Elvis Picardo

Invest Where Central Banks Still Have the Punch Bowl Handy

Summary of Recommendations

BMO MSCI EAFE Hedged to CAD Index ETF (Ticker: ZDM) BMO MSCI EAFE Index ETF (Ticker: ZEA)

A former Federal Reserve president famously remarked that his job was to take away the punch bowl just when the party gets going. In recent years, however, central banks have not only been reluctant to take away the punch bowl, but have been quite willing to replenish it to continue the party. The resultant flood of monetary stimulus has pushed up asset prices and led to record highs for many equity indices around the world. But in North America, the upward trend of short-term interest rates could jeopardize those good times, with both the Bank of Canada and the Federal Reserve poised to boost their benchmark rates two or three times in 2018. Against this backdrop, we suggest that it may be worthwhile to increase equity exposure to regions where central banks are less likely to take away the punch bowl because of an economic recovery that is still tenuous. 

Two such regions are the Eurozone and Japan, the biggest economic powerhouses among advanced economies, excluding the United States. Europe is enjoying an economic resurgence, as it grows at the strongest pace in a decade, with consumer confidence at its highest since 2001, unemployment close to a nine-year low and corporate profits exceeding estimates. In Japan, the economy is estimated to have grown 1.5% in 2017, helped by stronger international trade and fiscal stimulus. Japan’s Nikkei 225 index surged 19.1% last year, and in mid-January traded above 24,000 for the first time since 1991.1 

To gain exposure to these regions in a single instrument, our choice is BMO MSCI EAFE Hedged to CAD Index ETF (ZDM), the hedged version of BMO MSCI EAFE Index ETF (ZEA). Both ETFs track the MSCI EAFE Index, which represents the performance of more than 900 stocks across 21 developed markets, covering about 85% of the free float-adjusted market capitalization in each country. The Index includes countries in Europe, Australasia and the Far East, but excludes Canada and the U.S., making it a suitable investment alternative for Canadian investors looking to invest in developed markets outside North America. 

ZDM and ZEA are well diversified by geography and sector. The top five country allocations (as of January 19, 2018) are Japan (22.9%), United Kingdom (15.0%), France (10.0%), Germany (9.4%) and Switzerland (8.3%). The five biggest sector weights are Financials (21.7%), Industrials (14.9%), Consumer Discretionary (11.6%), Consumer Staples (11.5%) and Health Care (10.4%). The biggest stock weights in ZDM and ZEA are household names, such as Nestle, HSBC Holdings, Novartis, Toyota Motor Corporation, and Roche.2 

Our investment thesis is also predicated on the fact that the North American economy is much further along in the economic (recovery) cycle than the Eurozone – which was mired in recession as recently as the first quarter of 2013 (shaded area in Chart) – and Japan, where “Abenomics” – the comprehensive economic policy package unveiled by Prime Minister Abe in 2013 – turned the tide after two decades of stagnation. One such measure of the divergent states of these economies can be gleaned by yields on their government bonds. While yields on five-year U.S. Treasuries and Government of Canada bonds are currently at 2.43% and 2.03%, yields on five-year German bunds and JGBs are at -0.15% and -0.09%, respectively.1 

We currently hold ZDM in client portfolios, our personal preference being for the currency-hedged rather than the unhedged version of this ETF. ZDM has a management fee of 0.20% (MER 0.23%) and an annualized distribution yield of 2.67%.2  As can be seen in the chart, while the S&P 500 Index exceeded its previous highs in 2013, the MSCI EAFE Index (in local currency terms) is only now approaching its 2007 peak. A convincing break past that level could suggest more gains in store for the MSCI EAFE Index, the caveat being that the European Central Bank and Bank of Japan should continue to have the punch bowl close at hand.

MSCI EAFE Index (Blue) vs. S&P 500 (Green) – 1998 to Present 

Feb-2018-Elvis-chart.png#asset:663

Source: FactSet*, as of January 19, 2018. Shaded areas denote recession. 

1 FactSet®, as of January 19, 2018.

2 BMO Global Asset Management, as of January 19, 2018.

Elvis Picardo

Invest Where Central Banks Still Have the Punch Bowl Handy

Summary of Recommendations

BMO MSCI EAFE Hedged to CAD Index ETF (Ticker: ZDM) BMO MSCI EAFE Index ETF (Ticker: ZEA)

A former Federal Reserve president famously remarked that his job was to take away the punch bowl just when the party gets going. In recent years, however, central banks have not only been reluctant to take away the punch bowl, but have been quite willing to replenish it to continue the party. The resultant flood of monetary stimulus has pushed up asset prices and led to record highs for many equity indices around the world. But in North America, the upward trend of short-term interest rates could jeopardize those good times, with both the Bank of Canada and the Federal Reserve poised to boost their benchmark rates two or three times in 2018. Against this backdrop, we suggest that it may be worthwhile to increase equity exposure to regions where central banks are less likely to take away the punch bowl because of an economic recovery that is still tenuous. 

Two such regions are the Eurozone and Japan, the biggest economic powerhouses among advanced economies, excluding the United States. Europe is enjoying an economic resurgence, as it grows at the strongest pace in a decade, with consumer confidence at its highest since 2001, unemployment close to a nine-year low and corporate profits exceeding estimates. In Japan, the economy is estimated to have grown 1.5% in 2017, helped by stronger international trade and fiscal stimulus. Japan’s Nikkei 225 index surged 19.1% last year, and in mid-January traded above 24,000 for the first time since 1991.1 

To gain exposure to these regions in a single instrument, our choice is BMO MSCI EAFE Hedged to CAD Index ETF (ZDM), the hedged version of BMO MSCI EAFE Index ETF (ZEA). Both ETFs track the MSCI EAFE Index, which represents the performance of more than 900 stocks across 21 developed markets, covering about 85% of the free float-adjusted market capitalization in each country. The Index includes countries in Europe, Australasia and the Far East, but excludes Canada and the U.S., making it a suitable investment alternative for Canadian investors looking to invest in developed markets outside North America. 

ZDM and ZEA are well diversified by geography and sector. The top five country allocations (as of January 19, 2018) are Japan (22.9%), United Kingdom (15.0%), France (10.0%), Germany (9.4%) and Switzerland (8.3%). The five biggest sector weights are Financials (21.7%), Industrials (14.9%), Consumer Discretionary (11.6%), Consumer Staples (11.5%) and Health Care (10.4%). The biggest stock weights in ZDM and ZEA are household names, such as Nestle, HSBC Holdings, Novartis, Toyota Motor Corporation, and Roche.2 

Our investment thesis is also predicated on the fact that the North American economy is much further along in the economic (recovery) cycle than the Eurozone – which was mired in recession as recently as the first quarter of 2013 (shaded area in Chart) – and Japan, where “Abenomics” – the comprehensive economic policy package unveiled by Prime Minister Abe in 2013 – turned the tide after two decades of stagnation. One such measure of the divergent states of these economies can be gleaned by yields on their government bonds. While yields on five-year U.S. Treasuries and Government of Canada bonds are currently at 2.43% and 2.03%, yields on five-year German bunds and JGBs are at -0.15% and -0.09%, respectively.1 

We currently hold ZDM in client portfolios, our personal preference being for the currency-hedged rather than the unhedged version of this ETF. ZDM has a management fee of 0.20% (MER 0.23%) and an annualized distribution yield of 2.67%.2  As can be seen in the chart, while the S&P 500 Index exceeded its previous highs in 2013, the MSCI EAFE Index (in local currency terms) is only now approaching its 2007 peak. A convincing break past that level could suggest more gains in store for the MSCI EAFE Index, the caveat being that the European Central Bank and Bank of Japan should continue to have the punch bowl close at hand.

MSCI EAFE Index (Blue) vs. S&P 500 (Green) – 1998 to Present 

Feb-2018-Elvis-chart.png#asset:663

Source: FactSet*, as of January 19, 2018. Shaded areas denote recession. 

1 FactSet®, as of January 19, 2018.

2 BMO Global Asset Management, as of January 19, 2018.